Futures on VIX Looking Oddly Reliable

Once ‘mathematically challenged’, the VXX now tracks VIX closely

Throughout its brief and ugly history, the VXX — the iPath S&P 500 VIX Short-Term Futures (NYSE: VXX) — has gotten tagged as “America’s Worst ETN”, “The ETN from Hell”, “The Money Pit” and others. As options trading investors will tell you, most of these tags came from yours truly.

Politely, I would call VXX mathematically challenged. As we well know, VXX must constantly roll out near month CBOE Volatility Index (CBOE: VIX) futures (or equivalents) in order to maintain a constant 30-day duration. And when the second month out carries a relatively large premium to the first month out, that results in a constant dribble of cash.

But times have changed. VIX itself has rallied into the low 20’s, and the slope of the VIX futures curve has utterly flattened. April VIX closed 55 cents above March VIX on Friday, and that spread will narrow and perhaps even invert as VIX lifts. What’s more, April carries minimal premium to VIX itself, so not much to lose on simple premium erosion.

Its one of those rare moments in time that you can track VIX somewhat reliably via VXX. Or at least track it without worrying about the constant Contango Drip. But keep realistic. If VIX explodes here, the entire VIX futures curve will invert. In addition, they will all trade at discounts to VIX. The further from expiration, the bigger the discount. So while VXX owners would obviously benefit from an overall volatility rush, the discount to “cash” would mitigate those gains somewhat.

VXZ — the iPath S&P 500 VIX Mid-term Futures (NYSE: VXZ) — tracks four to seven month futures and has behaved much better over time than VXX. The VIX futures curve rarely has much slope that far out. In fact the worst VXZ ever did was earlier this year when the entire VIX futures board gave up a bit of premium. Thanks to the recent VIX lift, these mid-range futures trade only about $2.5 over VIX.

Not recommending anyone buy either of these, but I would note that they set up now as well as they ever do.